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Protecting your Principal

- Alan Lavine and Gail Liberman



Of course, the utopian investment is one that lets you invest in stock mutual funds and not lose any money. Today, you can do that through a variable annuity. But you must be willing to pay extra.

A variable annuity is a contract with an insurance company. It lets you invest tax- deferred in stock and or bond mutual funds. When you reach a specific age set by the insurance company - normally 75 years-old or so, you must start withdrawing money or agree to receive periodic income for as long as you live.

You only pay taxes on a deferred variable annuity's earnings upon withdrawal. Cash out before age 59, however, and you'll owe the IRS a 10 percent fine.Variable annuities already automatically come with death benefit guarantees. If you die, your heirs get the market value of your investment or the principal, whichever is greater. You'll have to pay more, however, if you want an added principal guarantee to cover you while you're still alive and kicking. With a principal guarantee, you generally can withdraw money from your annuity after you have owned it for a specified period--before the date withdrawal would otherwise be required. And no matter how your stock or bond funds have performed, your withdrawals are guaranteed to include the amount of your full original investment.

Principal protection costs more. The average variable annuity already has about a 1.5 percent annual insurance charge. For principal protection, you can expect to pay about one-tenth to one-third of one percent more each year. Don't forget. Your variable annuity also may charge annual mutual fund management fees. The overall cost, depending upon the insurance company, can be more than 2.5 percent annually.

The bottom line: Are these extra charges to protect your principal worth it--particularly when, based on the stock market's historic performance, stock investments held 10 years or more typically make back their losses? If you're uncertain about the outlook for the financial markets, paying the extra fees could be worth the peace of mind.

Insurance companies say they can offer these principal guarantees because they invest their reserves to hedge against losses. Plus, the longer you invest, the less chance you have of losing money in the first place. Those that offer principal protection riders on their variable annuities include Hartford Life Insurance, Simsbury, Conn., with its "Principal First" benefit. Also, MFS/Sun Life and Pioneer/Travelers Life and Annuity, both Boston, and Pacific Life Insurance Company, Los Angeles.

Nationwide Insurance, Columbus, Ohio, has a slightly different program, known as the "Capital Preservation Plan." It lets you invest part of your variable annuity money in a guaranteed account and the remainder in the stock or bond mutual funds of your choice. The combined amount of the guaranteed account and your mutual fund investment should grow back to the amount you initially invested. But there are no guarantees. A lot depends on how your stock and bond funds perform.

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Alan Lavine and Gail Liberman are husband and wife columnist and authors of The Complete Idiot's Guide To Making Money With Mutual Funds, (Alpha Books).


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